1.

Treasury Management
Treasury management is the planning, organising and control of funds required by a corporate entity.
Funds come in several forms: cash, bonds, currencies, financial derivatives like futures and options etc.
Treasury management covers all these and the intricacies of choosing the right mix.
According to Teigen Lee E, Treasury is the place of deposit reserved for storing treasures and
disbursement of collected funds. Treasury management is one of the key responsibilities of the Chief
Financial Officer (CFO) of a company.
Need for specialised handling of treasury
Treasury management should be practised as a distinct domain within the Finance function of an
organisation for the following reasons:
One of the most consistent demands on the CFO of a company is that money must be available
when needed, and this becomes a 24/7 task.
The cost of money raised for the business is probably the most crucial metric in a company for
many of its investment and operational decisions. Hence cost of funds has to be tracked
diligently.
Internal financial management in a multi-national corporate entity requires monitoring of several
global currencies.
Globalisation of business has thrown up an unbelievable basket of opportunities for the CFO to
optimise the utilisation of funds and minimise its costs. This requires expert handling.
Globalisation has also brought in unexpected risks that are not visible to the untrained eye but can
even destroy a business. Who would have thought that the crash of Lehman Brothers could
impact business houses in interior India? But that was what happened in 2009.
With increasing financial risk shareholders have become jittery about their holdings and need
reassurance often. For a company the Treasurer is probably the best spokes person to allay the
concerns of stockholders and other interested parties.

Benefits

Managing treasury as an expert subject has many benefits:

Valuable strategic inputs relating to investment and funding decisions
Close monitoring and quick effective action on likely cash surpluses and deficits
Systematic checks and balances that give early warning signals of likely liquidity issues

 Significant favorable impact on the bottom line for global corporations through effective
management of exchange fluctuation
Better compliance with the increasingly complicated accounting and reporting standards
on cash and cash equivalents
2.
Foreign Exchange Market
Foreign Exchange market (forex market) deals with purchase and sale of foreign currencies. The bulk of
the market is over the counter (OTC) i.e. not through an exchange which is well regulated.
International trade and investment essentially requires foreign markets. Banks act as intermediaries and
perform currency exchange transactions by quoting purchase and selling prices.
Types of foreign exchange market

Spot market Spot market is a market in which a currency is bought or sold for immediate
delivery or delivery in the very near future. Trading in the spot market is for execution on the
second working day. Both the delivery and payment take place on the second day. The rate quoted
is called as spot rate, the date of settlement known as value date and the transactions called
spot transactions.

The forward market involves contracts for delivery of foreign exchange at a specified future date
beyond the spot date and the transaction is called a forward transaction. The rate that is quoted
at the time of the agreement is called the forward rate and it is normally quoted for value dates of
one, two, three, six or twelve months.

Unified and dual markets Unified markets are found where there is only one market for foreign
exchange transactions in a country. They have greater liquidity, increased price discovery, lower
short-run exchange rate volatility and reliable access to foreign exchange. In contrast, dual
markets are found in countries with multiple exchange markets. For example, a country may
consider forex market for current account transactions and a different exchange for capital
transactions or market for trade transactions and another market for regulated transactions like
India had in the early 1990s, when dual exchange rates prevailed.

Offshore and onshore markets During the earlier stages of financial development, forex market
operated onshore i.e. within India. But after liberalisation of the economy, offshore markets have
developed and instruments based on foreign currencies issued by Indian firms are traded in
foreign markets.

Participants:
Corporates Corporates operate in the forex market when they have import, export of goods and
services and borrowing or lending in foreign currency. They sell or buy foreign currency to or
from ADs and form the merchant segment of the market.
Commercial banks Banks trade in currencies for their clients, but much larger volume of
transactions come from banks dealing directly among themselves.
RBI RBI intervenes in forex market to ensure reasonable stability of exchange rates, as forex
rates impact, and in turn are impacted, by various macro-economic indicators like inflation and
growth.
Exchange brokers They facilitate trade between banks by linking the buyers and sellers. Banks
provide opportunities to brokers in order to increase or decrease their selling rate and buying rate
for foreign currencies. Exchange brokers also specialise in specific currencies that have lower
demand and supply to add value to banks. In India, many banks deal through recognised
exchange brokers.
3.
Risk mitigation can be handed in four ways:
a) Risk avoidance: We can withdraw from an activity perceived to be risky, and elect not to go through
with it.
b) Risk transfer: We can insure ourselves against the risk and transfer it to another party called the insurer.
c) Risk sharing: We can disperse the risk element in an activity and reduce its impact, by the use of
derivative instruments,
d) Risk acceptance: We can build our competence and capability to deal with the risk by detailed study,
research and methods developed specifically for the concerned activity and its risk component.
The four approaches listed above start with the simplest (and the least profitable) to the toughest (but the
most profitable). De-risking by the first approach of simply avoiding the activity is the easiest answer but
you also stand to lose the money you could have made. At the other end the fourth approach where you
analyse the risk carefully and find specific solutions can bring great gains, but needs spending time and
effort.
Processes for risk containment

The basic steps in a typical risk containment process are:

Establishing the context i.e. analysing the strategic and organisational context in which risks occur
Identifying risks i.e. defining the risks associated with business, to have a fundamental understanding
of the activities causing risk of loss
Quantifying risks i.e. measuring the probability, frequency and hence the value of the risks, besides
listing non-quantifiable effects of the risks
Formulating policy i.e. providing a framework to handle risks, which lays down standard levels of
exposure and policy guidelines for each level
Evaluating risk i.e. ranking the risks based on priority, and aligning action and cost thereof with the
rank
Treating risk i.e. development and implementation of a plan with specific methods to handle the
identified risks
Monitoring risk i.e. reviewing the methods regularly vis--vis their efficacy in controlling risk, and
updating methods from time to time in keeping with changes in the organisation and the environment
Tools available for managing risks
Risk management tools do analysis and implementation of methods for mitigating risks. The major tools
available for risk are:
Failure Mode Effects Analysis (FMEA): This tool is used for identifying the cost of potential failures
in business. This method can be applied during analysis and design phases of new business to identify the
risk of failure. The FMEA method is divided into three steps:
o The first step is identifying the elements causing failure.
o The second step is studying the modes of failure.
o The last step is assessing the probability and effects of failure
Fault Tree Analysis (FTA): The tool is used as a deductive technique to analyse reliability and safety of
an organisation. It is usually implemented for dynamic systems. It provides the foundation for analysis
and justification for changes and additions of various actions to reduce risks.
Process Decision Program Chart (PDPC): The tool identifies the different levels of risk and the
countermeasure tasks. The process of planning is essential before the tool is used for measuring risks. It
includes identifying the element causing risk. The next process consists of identifying the context of
problem and measures to reduce risks.
4.

Interest Rate Risk Management (IRRM):

Interest Rate Risk is the risk

to the earnings from an asset portfolio caused by interest rate changes

to the economic value of interest-bearing assets because of changes in interest rates

to costs of fixed-rate debt securities from falling bank rates

to impact of interest rates on cost of capital used by the firm as hurdle rate for capital investment

Components of IRRM:
IRRM can be broken into three parts: term structure risk, basis risk and options risk.
Term structure risk also called yield curve risk is the risk of loss on account of mismatch between the
tenures of interest-bearing monetary assets and liabilities. For example if investments are held in 7-year
assets yielding a fixed 7% return, funded by a 5-year bond costing 6%, but renewed at the end of 5 years
at 8%, there is a loss of 1% during the sixth year. This can also happen if either of the tenures is on
floating and not fixed rates and the rate changes adversely.
This situation is called re-pricing and can be either asset-sensitive or liability-sensitive, depending upon
which gets re-priced first.
Basis risk is the risk of the spread between interest earned and interest paid getting narrower.
Options risk is the term risk on fixed income options i.e. options based on fixed income instruments.
Following are the features of corporate IRRM process:
Clarifying the policy with regard to interest rate risk
Constant watch on market rate fluctuations and studying its relevance to the firms cost of capital
Fixing the band beyond which interest rate changes should trigger corrective action
Special attention to long-term fixed exposures in investments as well as funding decisions
Effective, unambiguous and timely reporting on IRRM to the CEO and the Board

Factors affecting interest rate:

Macro factors
Cost of living index: Increases in price levels of goods and services over a period of time reduce
real value of the rupee and push interest rates up.

 Monetary policy changes: RBI works with monetary policy to balance the twin objectives of
economic growth and price stability for a developing economy like ours, and interest rate is
automatically affected with increase and decrease of money supply by RBI using repo rates.
Condition of economy: Whether the economy is rapidly growing or its growth rate is declining
can make a difference.
Global liquidity: Global economic environment and availability of funds across the world does
have an impact.
Foreign exchange market activity: Foreign investor demand for debt securities influences the
interest rate. Higher inflows of foreign capital lead to increase in domestic money supply which
in turn leads to higher liquidity and lower interest rates.
Micro factors
Micro factors, meaning factors specific to the borrower, which play a role in the interest rate, are:
Individual credit and payment track record, credit rating
Industry in which the business is operating
Extent of leveraging of the company viz. debt-equity ratio
Quality of prime security and collateral
Loan amount
5.
Contents of working capital

As stated above, working capital comprises the working assets of a firm. What are these assets?
Look at the items in these examples.

A trading business for instance may have to purchase and store products to be sold, paying for
them before they can be sold and cashed. A factory that produces and sells products has to store
raw materials and finished goods, besides having some unfinished materials under process.

A company may also need to allow the customers to pay later instead of insisting on cash at the
point of delivery.

Payments in advance may be required for certain expenses like annual insurance, deposit for
renting the office, foreign currency and tickets for foreign travel or advance fees/deposits for
statutory registrations.

And finally the business must have some idle cash and bank balances for making spot payments.

Each of these requirements takes the form of a working asset:

The first is a working asset or a current asset called inventories.
The second item is called trade receivables or accounts receivable
The third set of items are prepayments, advances and deposits
The final item is cash & cash equivalents.
These assets together comprise the working capital of a business.
Need for working capital
Can a business run without the need to invest in working assets like trade receivables and inventories? Let
us study the following case.
Pachai is a vendor of pani-puris in a makeshift stall of his own at the end of the street in which he
lives.
Every morning he goes to the market and buys the ingredients to make pani-puris for the day,
estimating the quantity based on anticipated sales. He buys more in the weekends, naturally.
He does not pay for the material as he buys on credit.
Through the day he does the processing of the pani-puris to the stage needed, and at 4 pm sets up the
stall and runs it till 8 30 p.m.
As he sells the pani-puris he collects cash, and at 8.30 or earlier, depending upon the demand, he sells
his days produce completely.
He goes across to the vendor from whom he bought the ingredients and pays for the supply, and
returns home with the balance money, which is his profit.
The cycle is repeated day after day.
Here is a businessman who, you might say, does not require working capital at all: no idle cash, no
deposits, no receivables and no inventories. But this is an extreme case under ideal conditions.
If the produce is not sold fully it becomes inventory for the next day. Or the vendor might want a security
deposit. Or Pachai may think about expanding by selling a part of his produce in bulk to another stallowner, who will pay once a week. In all these cases he will need to worry about working capital.

All businesses small, medium or big need working capital for survival and growth. The more
widespread the activity, the greater is the need. It is of paramount importance for the financial health of a
business to assess the requirement reasonably correctly, finance it sensibly and control it effectively and
make sure the working assets keep working, are current and do not get stuck. This is the essence of
working capital management.
6.
Concept and Benefits of Integrated Treasury
The concept of integrated treasury works on the principle that Treasury can be a single unifying force of a
companys activities in the money market, capital market and forex market; and can help the company
derive synergy. Synergy is a powerful advantage in business because it brings together two or more
activity domains and achieves a total effect that is greater than the sum of all the individual domains.
Thus a decision related to money market instruments, for example, is taken after reviewing possible forex
actions that could enhance the benefit of the decision.
The Indian rupee is freely convertible on current account and partially convertible on capital account.
This has made it possible to take a combined approach to a treasury issue.
The major functions of integrated treasury are as follows:
Ensuring liquidity reserve
Deploying surplus funds in securities with low risk and moderate profits
Managing multi-currency operations
Exploring opportunities for profitable placements in money market, securities market and forex market
Managing the sum total of treasury risks with some balancing actions as between the three markets
The advantages of operating treasury are:
Individual business units can be charged a market rate for the service provided, thereby making their
operating costs more realistic.
The treasurer is motivated to provide services as economically as possible to make profits at the
market rate.
The disadvantages are:
The profit concept is a temptation to speculate. For example, the treasurer might swap funds from the
currencies that are expected to depreciate and risk the company cash values.
Management time could be wasted in arguments between Treasury and business units over the charges
for services, distracting the latter from their main operations.

 The additional administrative costs may be excessive.